When compared to passive funds, active funds charge higher fees. The cost of a fund’s operation is passed on to the investors. In the case of active fund management, the costs associated with identifying mispriced securities are burdensome. Detailed stock analysis, frequent buying and selling inside the fund, and compensation to the funds’ managers for their perceived skill all add up to impose a hefty fee and a high hurdle for fund managers to beat their benchmarks net of fees. As I have shown in previous steps, active managers rarely beat their index benchmarks. These higher fees are a primary culprit of this underperformance. Figure 7-5 reveals the disparity in mutual fund expense ratios, showing the weighted averages of fund share classes tracked by Morningstar. The figure shows the differences of the average fund expense ratios between actively managed funds, and a 60% Stock/40% Bond Index Portfolio. As you can see, the average actively managed mutual fund is more than three times as costly as the blend of indexes.

The data provided in all charts referring to IFA Index Portfolios is hypothetical backtested performance and is not actual client performance. Only data for the IFA Index Portfolios is shown net of IFA's highest advisory fee and the underlying mutual fund expenses. All other data, including the IFA Indexes, does not reflect a deduction of advisory fees. None of the data reflects trading costs or taxes, which would have lowered performance by these costs. See more important disclosures at ifabt.com.